DBRS Morningstar Confirms Credit Ratings on HGI CRE CLO 2022-FL3, LLC

DBRS, Inc. (DBRS Morningstar) confirmed its credit ratings on all classes of notes issued by HGI CRE CLO 2022-FL3, LLC (the Issuer):

-- Class A Notes at AAA (sf)
-- Class B Notes at AA (low) (sf)
-- Class C Notes at A (low) (sf)
-- Class D Notes at BBB (sf)
-- Class E Notes at BBB (low) (sf)
-- Class F Notes at BB (low) (sf)
-- Class G Notes at B (low) (sf)

All trends are Stable.

The credit rating confirmations reflect the overall stable performance of the transaction, which has remained in line with DBRS Morningstar’s expectations since issuance as the trust continues to be solely secured by the multifamily collateral. In conjunction with this press release, DBRS Morningstar has published a Surveillance Performance Update report with in-depth analysis and credit metrics for the transaction and with business plan updates on select loans. For access to this report, please click on the link under Related Documents below or contact us at [email protected].

The initial collateral consisted of 22 floating-rate mortgages secured by 35 mostly transitional properties with a cut-off date balance totaling $546.8 million. Most loans were in a period of transition with plans to stabilize performance and improve values of the underlying assets. As of the September 2023 remittance, the pool comprised 25 loans secured by 42 properties with a cumulative trust balance of $546.8 million. Since issuance, two loans with a prior cumulative trust balance of $65.3 million have been successfully repaid in full from the pool or been purchased out of the trust at par by the collateral manager. This includes the $32.5 million Burlington Pointe loan, which paid off since the previous DBRS Morningstar rating action in November 2022, having been purchased out of the trust in May 2023.

The transaction is managed with a two-year Reinvestment Period, whereby the Issuer can purchase new loans and funded loan participations into the trust. The Reinvestment Period is scheduled to end with the March 2024 payment date. As of September 2023, the Reinvestment Account did not have any available funds as the transaction is at its maximum funding amount. All future loans will be secured by multifamily collateral.

The transaction is concentrated by property type, as all loans are secured by multifamily properties. The pool is primarily secured by properties in suburban markets, as defined by DBRS Morningstar, with 19 loans, representing 69.4% of the pool, assigned a DBRS Morningstar Market Rank of 3, 4, or 5. An additional three loans, representing 22.5% of the pool, are secured by properties with a DBRS Morningstar Market Rank of 6, denoting urban markets, while three loans, representing 8.1% of the pool, are secured by properties with a DBRS Morningstar Market Rank of 2, denoting rural and tertiary markets. In comparison, at closing, properties in suburban markets represented 75.8% of the collateral, properties in urban markets represented 16.9% of the collateral, and properties in tertiary markets represented 7.3% of the collateral.

Leverage across the pool was generally stable to slightly elevated as of September 2023 reporting when compared with issuance metrics. The current weighted-average (WA) as-is appraised value loan-to-value ratio (LTV) is 69.9%, with a current WA stabilized LTV of 63.6%. In comparison, these figures were 72.3% and 65.0%, respectively, at issuance. DBRS Morningstar recognizes that select property values may be inflated as the majority of the individual property appraisals were completed in 2022 and may not reflect the current rising interest rate or widening capitalization rate environments.

Through June 2023, the lender had advanced cumulative loan future funding of $34.8 million to 22 of the 25 outstanding individual borrowers to aid in property stabilization efforts. The largest advances have been made to the borrowers of the Willow Creek ($3.7 million) and Tzadik Portfolio Pool 4 ($3.6 million) loans. The Willow Creek loan is secured by a 304-unit multifamily property in Winston-Salem, North Carolina. The advanced funds have been used to fund the borrower’s planned capital expenditure (capex) throughout the property. The loan is now considered fully funded as the borrower has exhausted all available future funding. According to the Q2 2023 collateral manager report, the sponsor has completed 156 unit renovations to date and is planning to complete the remaining renovations by YE2023. As of May 2023, the property was 85.0% occupied with renovated units achieving rental premiums upward of $400/unit compared with rents at issuance. The Tzadik Portfolio Pool 4 loan is secured by a portfolio of four garden-style multifamily properties totaling 728 units in Tampa, Florida. The advanced funds have been used to fund capex projects across the portfolio. An additional $6.2 million of future funding remains available to the borrower. According to the May 2023 rent rolls for the individual properties, occupancy rates ranged from 80.7% to 94.2% and the average rental rate across all four properties was $977/unit, an improvement of approximately $100/unit from closing.

An additional $35.9 million of loan future funding allocated to 17 of the outstanding individual borrowers remains available. The largest portion of available funds ($6.9 million) is allocated to the borrower of the Lofts at Twenty25 loan, which is secured by a multifamily property in downtown Atlanta. The available funds will be used to complete the borrower’s capital improvement plan. The borrower has not made an advance draw request since loan closing.

As of the September 2023 remittance, there were no delinquent loans or loans in special servicing, and there are 14 loans on the servicer’s watchlist, representing 54.2% of the current trust balance. The loans have generally been flagged for low occupancy rates and below-threshold debt service coverage ratios. Regarding properties that are not generating sufficient cash flow to cover operations and debt service, the servicer noted several common factors for the performance declines. These include planned tenant evictions and taking units offline to complete upgrades, increased repairs and maintenance and marketing expenses to upgrade units and execute new leases, and an increase in the benchmark interest rate, which has resulted in higher debt service costs as all loans have floating interest rates. The borrowers of all 14 loans on the servicer’s watchlist remain in the midst of executing their respective business plans with no single loan maturity occurring until Q3 2024. DBRS Morningstar expects the loans to remain current.

ENVIRONMENTAL, SOCIAL, GOVERNANCE CONSIDERATIONS
There were no Environmental/Social/Governance factors that had a significant or relevant effect on the credit analysis.

A description of how DBRS Morningstar considers ESG factors within the DBRS Morningstar analytical framework can be found in the DBRS Morningstar Criteria: Approach to Environmental, Social, and Governance Risk Factors in Credit Ratings at https://www.dbrsmorningstar.com/research/416784 (July 4, 2023).

All credit ratings are subject to surveillance, which could result in credit ratings being upgraded, downgraded, placed under review, confirmed, or discontinued by DBRS Morningstar.

Notes:
All figures are in U.S. dollars unless otherwise noted.

The principal methodology is the North American CMBS Surveillance Methodology (March 16, 2023), https://www.dbrsmorningstar.com/research/410912.

Other methodologies referenced in this transaction are listed at the end of this press release.

The DBRS Morningstar Sovereign group releases baseline macroeconomic scenarios for rated sovereigns. DBRS Morningstar analysis considered impacts consistent with the baseline scenarios as set forth in the following report: https://www.dbrsmorningstar.com/research/384482.

The credit rating was initiated at the request of the rated entity.

The rated entity or its related entities did participate in the credit rating process for this credit rating action.

DBRS Morningstar had access to the accounts, management, and other relevant internal documents of the rated entity or its related entities in connection with this credit rating action.

This is a solicited credit rating.

Please see the related appendix for additional information regarding the sensitivity of assumptions used in the credit rating process.

DBRS, Inc.
22 West Washington Street
Chicago, IL 60602 USA
Tel. +1 312 332-3429

The credit rating methodologies used in the analysis of this transaction can be found at: https://www.dbrsmorningstar.com/about/methodologies.

-- North American CMBS Multi-Borrower Rating Methodology (March 16, 2023)/North American CMBS Insight Model Version 1.1.0.0, https://www.dbrsmorningstar.com/research/410913

-- DBRS Morningstar North American Commercial Real Estate Property Analysis Criteria (September 22, 2023), https://www.dbrsmorningstar.com/research/420982

-- North American Commercial Mortgage Servicer Rankings (August 23, 2023),
https://www.dbrsmorningstar.com/research/419592

-- Interest Rate Stresses for U.S. Structured Finance Transactions (June 9, 2023),
https://www.dbrsmorningstar.com/research/415687

-- Legal Criteria for U.S. Structured Finance (December 7, 2022),
https://www.dbrsmorningstar.com/research/407008

For more information on this credit or on this industry, visit www.dbrsmorningstar.com or contact us at [email protected].